At the NAPE Summit in February, EOG Resources Inc. chairman and CEO William R. Thomas cleared the air on the U.S. role in global energy markets and the willingness of companies to, in essence, slash their own tires by continuing to grow production.

The financial markets’ tendency to reward production has encouraged operators to keep oil flowing. This year, far into the downturn, E&Ps are finally announcing capex cuts deep enough to significantly slow output.

EOG wasn’t one to wait. As soon as crude prices began to slide, the company’s response was to stop, drop and drill a lot less.

Thomas said that as of early 2015, EOG was growing at a 40% compounded annual growth rate. As the year progressed, however, it set its sights on zero growth. “We’re not going to grow oil into an oversupplied market,” Thomas recalled telling investors at the time. “That made no sense to us at all.”

It made even less sense to outspend cash flow in order to grow oil production. “Why do you want to destroy your balance sheet and grow oil at low oil prices?” he asked.

The countdown to an upturn starts at $60, EOG Resources Inc. chairman and CEO William R. Thomas told the audience at the NAPE Summit in February.

He also dismissed the notion that gains in horizontal well efficiencies will prolong market oversupply. While lateral lengths have been a significant factor in production improvements, he said, the most substantial gains have run their course. “Shale efficiencies are not the main driver,” he said.

What propels production today is the number of wells put to sales. “The U.S. will be either in growth mode or decline mode based on how many wells are completed,” he said.

Until supply and demand equalize, pumping more oil will only hurt U.S. energy companies by extending the period of oversupply, Thomas said. Last year’s production didn’t fall as far as expected in part because E&Ps were unwilling to curb spending. Even as commodity prices cratered through year-end, the industry struggled to rein in production.

One reason for the delay in declines involves wage structure, he said. “Almost everybody’s compensation factors are driven by reserve growth and production growth. You want to know why most of the industry outspent cash flow last year trying to grow production? That’s the way they’re paid.”

At EOG, however, returns are the primary incentive. Employees are rewarded for reducing costs and getting more for less.

Returns to spender

EOG has achieved cost reductions through various means.

“Like a lot of folks, we’ve benefited from the service industry with tremendous cost reductions,” Thomas said. But only one-third of EOG’s cost reductions came from reduced service rates, he added. The other two-thirds resulted from technology and efficiency.

Internally, EOG sees itself as a technology company as much as an E&P.

“We didn’t rely on the service industry,” he said. “We took it in-house, and we developed our own proprietary internal technology on how to complete wells, drill wells.”

The company has seen remarkable improvements in production through high-density fracking, which keeps cluster fractures closer to the wellbore. In 2010, EOG’s fracking process created about 540 microseismic events per 1,000 feet of lateral. In 2015, about 4,030 fracking events were created along the same distance, but were less expansive, increasing fracture conductivity to the wellbore seven to eight times. The design, normalized to a 5,300-foot lateral, resulted in shallower productivity declines and a 33% upswing in cumulative production.

“Productivity per well goes up, and we get to drill a lot more wells with downspacing,” he said, “so the reserve potential of the play increases dramatically.” The company is also hypervigilant about cost: Every nut and bolt, every process of the business is viewed as an opportunity to slash costs.

Organic growth has been the hallmark of EOG’s strategy. The company has eschewed acquisitions to focus on developing reserves, which soared by 250% in its Eagle Ford Shale operations from 2010 to 2014. Though it executed some smaller bolt-on acquisitions in 2015, “we’ve never grown the company through acquisitions or mergers,” Thomas said.

Its vaunted position in the Eagle Ford, which stretches 120 miles across Texas, consists of 561,000 acres in the oil window. “We paid $450 an acre for it,” Thomas said. “It’s some of the best rock in the Eagle Ford. That’s how we want to do all of our deals.”

The company is maximizing returns in the downturn by drilling in its best plays: the Eagle Ford, Delaware Basin and Bakken.

The countdown to an upturn starts at $60, Thomas said. That’s the price at which he thinks production growth—in the neighborhood of 500,000 barrels per day—can resume. But it will take 12 months or more to restore that amount, he said. The biggest hold-up will be the decimated service industry.

“They’ve made a tremendous reduction in people, so it’s going to take quite a while to get those people back in and get back to the efficiencies we had before,” Thomas said.

Even if oil hits $60, EOG won’t immediately accelerate production. It will wait to make sure the market is balanced and has a future. “We don’t want to ramp it up and drive the price of oil back down again,” he said.

The new marginal cost of oil is $70 to $80. Shown are finding and development breakeven prices in key worldwide basins.

Frack swing

Addressing the U.S. industry’s role in global markets, Thomas noted that oil producers collectively are a massive global force, and as a result, their momentum makes them about as nimble as an 18-wheeler in water. The industry’s inability to start and stop production on a dime makes it an unlikely successor to OPEC’s role as swing producer, a role the cartel has abandoned.

“Some people think you can turn the U.S. off and on like a light switch,” he said. “That’s not going to happen—the U.S. cannot respond quickly.” With OPEC refusing to act, effectively there is no swing producer.

The world will need more U.S. horizontal drilling for unconventional oil, which has become a major new supply source, he said. “Some people think U.S. tight oil is the highest-priced oil in the world, but it’s not; it’s in the middle of the pack and getting better all the time.”

Future oil demand increases will be supplied by the Arab Gulf States and the U.S., which has a higher price tag to produce but has seen marginal costs fall to $70 to $80 per barrel, he estimated.

“Conventional discoveries worldwide are few and far between,” Thomas said. “It’s difficult to find conventional sources of oil except in ultra-deepwater or some country you don’t want to be in.” These, he said, are less likely to be produced in a balanced price environment.

The oil and gas business will be far more cutthroat at lower prices, Thomas said.

“Everybody can’t succeed at the same level,” he said. “At $95 oil it’s pretty easy. Everybody can do it and make money. At $30 oil, almost nobody can.”

Very few operators can muster a 10% IRR even at $40, he said.

“The whole world is under stress at $30 oil, I don’t care who you are, even the Saudis. Nobody believes current prices are anywhere close to sustainable. So it’s going to go up, and migrate toward $70 to $80. Hopefully that will happen by the latter part of this year; certainly by 2017 there will be enough supply off the market to make a difference in price.”

In the end, the rock is still what matters most. “Rock is the dominant factor in all productivity of these wells,” he said. “It’s highly variable in each play and each sweet spot.”

Oil plays have relatively small sweet spots, especially compared to the gas plays. “So you better know geology, you better know your rocks, and you better know your geochemistry when you start working with oil, because it’s very, very picky,” Thomas said.